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www.saas-capital.com
WHAT’S YOUR SAAS
COMPANY WORTH?
This white paper is written for entrepreneurs, angel
investors, and the management teams of SaaS
businesses. The intent of the paper is to describe
the approach used by most professional investors
and strategic buyers to value a SaaS company. By
better understanding the concepts and mechanics
of valuing a SaaS business, management will
be better able to articulate and maximize the
value of their company, and also develop a more
accurate estimate of the likely offers in a sale
process or equity raise, resulting in a narrower
bid-ask starting spread and higher likelihood of
a successful outcome. The framework described
in this paper is designed to be adaptable to the
market environment well into the future.
WHITE PAPER - 2019 v01
www.saas-capital.com
What's Your SaaS Company Worth – © 2019– SaaS Capital
1
INTRODUCTION
Like all businesses, a SaaS company is worth what a buyer and seller agree upon, and is based
on an estimate of the current value of its future cash flows. That simple sentence includes two
essential concepts:
1)
The marketplace determines SaaS company valuations during a process of negotiation
between two parties.
2)
A set of assumptions about the size, timing, and predictability of the future cash flows
generated by the business are the basis for negotiation.
In the following pages, we will try to add insight into both the general valuation parameters of the
marketplace and also the fundamental assumptions about future cash flows of an individual SaaS
business.
The paper consists of seven sections:
1. The Basic Valuation Formula
2. Public Company Valuations
3. Translating Public Valuations to Private Companies
4. Company-Specific Value Drivers
5. The Balance Sheet
6. Other Valuation Drivers
7. Sample Valuations From Our Portfolio
What's Your SaaS Company Worth – © 2019– SaaS Capital
THE BASIC VALUATION FORMULA
For private SaaS businesses, the net present value of future cash flows can be reduced to a
shorthand formula based on a multiple of the company’s annualized revenue.
Annualized Revenue x Multiple = Company Valuation
Anything that affects the projected size, timing, and predictability of future cash flows impacts
the revenue multiple. Those factors include company-specific drivers such as growth rate, gross
margins, retention, etc. and external or macro factors such as economic growth expectations,
fear of war, tax policy, etc.
The company-specific factors drive the projected cash flows, while public company valuation
multiples reflect the implicit macroeconomic discount rate. Said differently, the current public
market valuation multiples incorporate all known macroeconomic uncertainty, and the company-
specific factors adjust it from there. Sometimes the baseline valuation multiple is 9.0 times
revenue; sometimes it is 4.0 times; it just depends on when you are selling. Figure 1 depicts the
median public SaaS valuation multiples since 2008. We will further explore the public market
baseline multiple below in the “Using Public Company Valuations” section.
So why do SaaS companies trade on revenue, while all
other businesses trade on EBITDA or net income, both
of which are closer approximations of cash flow?
Net income takes a long time to materialize for growing
SaaS businesses, even if underlying unit economics are
robust. Sales and marketing expenses are recognized
upfront, while revenue persists over many years. This
“lag” makes new customers unprofitable in the short
term, even though they clearly will be profitable over
their lifetime. If a SaaS business is growing quickly,
there are a lot of new (temporarily unprofitable)
customers making net income negative. This is true
even though the business could stop growing and it
would immediately throw off cash. For this reason,
revenue is a better indicator of long-term cash flow
for a SaaS business than net income or EBITDA. This
approach to valuation will likely change as the sector
matures, but even for the largest SaaS businesses
today, there is little relationship between overall
profitability and valuation.
Source: The SaaS Capital Index
Figure 1
Median Public SaaS Company Valuation Multiple
9.0x
.0x
2.0x
4.0x
6.0x
8.0x
10.0x
12.0x
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© 2019 - SaaS Capital
2
What's Your SaaS Company Worth – © 2019– SaaS Capital
How should revenue be measured?
Before moving on to the different drivers of the valuation multiple, let’s discuss the first part of
the equation – revenue. When a buyer or investor evaluates a business, they will look closely at
the different revenue streams, and when possible, value them differently. High gross margin
recurring license fees generate more future cash-flow and are more highly valued. One-time
services fees like implementation are valued less, with recurring services falling somewhere in the
middle. Refer to the Gross Margin & Revenue Mix section below for more detail.
The generally available data on public and private valuation multiples include companies with
varying percentages of services revenue, which is not necessarily disclosed separately. We do
know, however, from our survey of over 1,000 SaaS businesses, and available public data, that the
average mix of license fees to services revenue is 80% to 20%, respectively. So, if your business
has a similar 80/20 revenue mix, the revenue multiple developed here applies to your entire
revenue stream, not just your license revenue or Annual Recurring Revenue (ARR). However, if
your services mix is significantly higher, or you have hardware or other types of revenue, you will
need to calculate separate adjustments downward for individual revenue streams.
It’s also important to note that when looking at most public company data, valuations are typically
reported as a multiple of either last year’s revenue, next year’s revenue, or the trailing 12
months of revenue. All of these revenue figures add unnecessary noise to determining
a precise measure of current revenue, which is the company’s annualized run-rate
revenue. The SaaS Capital Index, referenced throughout this paper, calculates
valuation multiples based on run-rate revenue to make a comparison to
your business more direct. If you are using another index, it will be
important to keep this nuance in mind and adjust accordingly.
Having outlined the basic approach to valuation, let’s
now take a more in-depth look at public SaaS
company valuations.
“Anything that will impact
the size, timing, and
predictability of future cash
flows will be incorporated
into the revenue multiple.”
3
What's Your SaaS Company Worth – © 2019– SaaS Capital
0%
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SaaS Capital Index
S&P 500
NASDAQ Composite
Figure 2
SaaS Capital Index vs. S&P 500 & NASDAQ
PUBLIC COMPANY VALUATIONS
Public market valuations reflect real-time information and have high data integrity because
they include many different companies and are based on audited financial statements. Public
valuation data is the primary starting point for valuation analysis by both buyers and sellers.
There are several different public SaaS indices available, including one developed by SaaS Capital
– aptly called The SaaS Capital Index. The companies in our index were selected to represent
pure B2B SaaS companies, and specifically excludes companies like LinkedIn (when public),
PayPal, Carbonite, and Dropbox. The index also excludes legacy and conglomerate software
vendors such as Microsoft and Oracle, who have a mix of perpetual and SaaS revenue.
Because public valuation data changes constantly,
any valuation analysis should begin by downloading
the most current SaaS Capital Index dataset
available to download from the SaaS Capital website.
Before we discuss the mechanics of using the public
valuations, let’s pause here to understand a bit about
how the public company valuations have behaved
over time. Figure 2 compares the SaaS Capital Index
to the S&P 500 and NASDAQ composite index since
2013.
First, it’s impossible not to notice how SaaS company
valuations have outperformed the broader market
in the last three and a half years. Broadly speaking,
since early 2017, the valuations of SaaS businesses
have increased three times more than the broader
stock market.
The increase in SaaS valuations over the broader market during this period primarily resulted
from SaaS companies growing revenue (their key valuation metric) faster than the rest of the
companies grew net income (their key valuation metric). Also contributing, but to a somewhat
lesser extent, was the fact the average SaaS company revenue valuation multiple increased more
over this period than the price-to-earnings multiple increased for the rest of the market.
The other thing that’s easy to see is the SaaS index is bumpier than the other indices indicating
its higher volatility. The higher volatility is explained by the fact that the index is comprised of
fewer companies, and SaaS is still an emerging space comprised of smaller market capitalization
companies with higher stock price volatility.
© 2019 - SaaS Capital
4
What's Your SaaS Company Worth – © 2019– SaaS Capital
We are not public market investors, however, there have been two recent,
apparent over-corrections in SaaS valuations in early 2016, and late in 2018
when SaaS valuations fell much more aggressively than the broader market.
In each case, the underlying companies’ performance was relatively consistent
and it was mostly the market expectations that changed. In both occurrences,
company values rebounded and eventually out-performed the broader market.
The upshot of this pattern is that if you are looking to sell your business during
a period of “correction” in SaaS values, choosing not to sell and waiting for it to
pass has historically been a successful strategy. It would also be fair to note that
as of the writing of this report, the median public SaaS revenue multiple of 9.0 is
substantially above historical norms. The timing of an equity raise or company
sale is difficult to manage, and future public SaaS valuations are difficult to
predict, however, an awareness of historical public SaaS valuation trends can provide meaningful
guidance for fundraising and sale decisions. Therefore, selling a SaaS business in the macro
environment of the fall of 2019, for example, would generally be constructive.
Figure 3 shows that the median public B2B SaaS business has $562 million in revenue, is growing
at 22.7% year-over-year, has gross margins of 73%, and is worth about 9.0 times run-rate revenue
as of October 1, 2019. This baseline now becomes the starting point of our analysis and we
will build from here. The great thing about public market data is you can easily find it, and it’s
updated constantly. The drawback of public valuation data, however, is that it does not represent
the realities of the typical private SaaS company, which is much smaller.
Revised 10/1/2019
Market Cap
($ Billions)
EV/Run Rate
Revenue
Run Rate
Revenue
($ Millions)
Growth
Rate
Gross
Margin
Median
$ 5.13
9.0x
$562
22.7%
73%
Mean
$ 13. 54
10.1x
$1,384
24.6%
73%
Low
$ 0.44
1.8x
$ 167
- 5.5%
45%
High
$134.35
27.9x
$15,988
85.1%
90%
Figure 3
SaaS Capital Index: Company Metrics
Source: SaaS Capital Index
To value your SaaS business, start by downloading the most
current SaaS Capital Index dataset from our website.
“Awareness of historical
public SaaS valuation
trends can provide
meaningful guidance
for fundraising and
sale decisions.”
5
What's Your SaaS Company Worth – © 2019– SaaS Capital
TRANSLATING PUBLIC VALUATIONS TO PRIVATE COMPANIES
The valuation drivers in private markets are the same as in the public markets, although the private company
valuations tend to be lower because the companies are smaller (riskier) and shareholders do not have liquidity. That
is, they can’t buy or sell their shares in the company whenever they want.
Unfortunately, valuations in private transactions are rarely disclosed and valuation multiples alone, without knowing
the growth rate of the underlying businesses, are not particularly useful. Fortunately, SaaS Capital has been directly
involved in 30 SaaS companies that have either raised equity or sold their business over the last five years, and we
know the growth rates and valuation multiples for all
these companies.
Taking the private company valuation multiples from
our portfolio and overlaying them on the public
company multiples over the same period and across
companies with similar growth rates yields the graph
shown in Figure 4.
The Valuation Multiple Spread
If you look closely at Figure 4, you will notice that the
difference between the public and private revenue
multiples is about 2.0x across the spectrum of growth
rates. Please note, this chart is only intended to
demonstrate the discount applied to private versus
public companies and should not be used for any
current valuation calculations because it relies on
data some of which is five years old. The 2.0 times
revenue discount represents a 28% discount to the
average public valuation multiple over that period.
So, mechanically, start your valuation analysis with
the most current median public valuation multiple in
the SaaS Capital Index, and then apply the private
company discount of 28%.1 Therefore, as of our
publication date in October 2019, the current baseline
private company revenue multiple is 6.5x, depicted in
Figure 5.
1 While SaaS Capital will update the private company discount factor on a
regular basis, 28% has shown to be a relatively stable value over time.
.0x
2.0x
4.0x
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8.0x
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-20%
0%
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100%
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VALUATION MULTIPLE OF TTM REVENUEGROWTH RATE
Private
Public
Linear (Private)
Linear (Public)
Figure 4
Private vs. Public Multiples
© 2019 - SaaS Capital
9.0x
-2.5
6.5x
Public Multiple Oct-19
- Private Discount -
Private Multiple Oct-19
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Figure 5
Private Company Discount Factor
© 2019 - SaaS Capital
6
What's Your SaaS Company Worth – © 2019– SaaS Capital
COMPANY-SPECIFIC VALUE DRIVERS
Having established both the basic formula of SaaS valuations as a function of revenue and
provided a way to calculate a baseline revenue multiple at any point based on public company
valuations, we will now explore the company-specific factors that will cause a multiple to be
higher or lower.
To maximize company value, individual company characteristics need to be carefully evaluated,
isolated, and considered in the overall context of the broader market. Drawing upon our
experience selling and financing hundreds of companies and seven years of proprietary survey
data from 1,000 private SaaS companies, we have assembled the following list of value drivers
every operator should consider as they prepare for an equity raise or sale of their company.
Listed in order of importance, the company-specific drivers of financial valuation are:
1.
Growth & Scale of Revenue
2.
Market Size
3.
Revenue Retention
4.
Gross Margin & Revenue Mix
5.
Customer Acquisition Efficiency & Unit Economics
6.
Profitability
“To maximize company value,
individual company characteristics
need to be carefully evaluated,
isolated, and considered in the
overall context of the
broader market.”
7
What's Your SaaS Company Worth – © 2019– SaaS Capital
VALUATION DRIVER #1
GROWTH & SCALE OF REVENUE
How much revenue is there now? How long will it take to get bigger?
How likely is it to happen?
A company’s historical growth rate is the single biggest driver of the valuation multiple. It has
dwarfed all other factors for a long time. The reason high historical growth is so valuable is that
it is predictive of both the timing (sooner), and size (larger), of future profits. And because of the
recurring revenue model, high historical growth rates make projected future profits more likely
(lower risk).
The relationship between growth and valuation multiples was shown in Figure 4 and it applies
equally to public and private businesses. The correlation between growth and valuation is not
perfect, but it is solid and outweighs all other metrics.
Faster-growing businesses get higher multiples, while
the slower-growing businesses get lower multiples.
Growth rate alone, however, does not tell the full story.
It is much easier and more common for a $5 million
business to grow at 40% than it is for a $500 million
revenue business. This relationship is simply due to
math (based on the size of the denominator) and the
standard growth curve, which slows over time for all
businesses. (Refer to SaaS Capital Research Brief 6,
The Daunting Math of Growth, for more details.)
The size of the bubbles in Figure 6 indicates the relative
size of revenue for each company. You’ll see in the chart
that for a given growth rate, the larger bubbles (larger
companies) generally receive a higher valuation multiple
than a smaller company growing at the same rate.
Larger companies are less risky, and if they are still growing nicely at scale, by definition, they
have a significant addressable market.
Byron Deeter at Bessemer Ventures likes to tell the story that many early-stage SaaS companies
point out to him that they are growing much faster than their public competitors and, therefore,
should get a premium valuation. The more relevant comparison, however, is to compare the
growth rates of the companies when they were both the same size. Many public SaaS businesses
now growing at 30% were growing at 200% when they were $5 million or $10 million in revenue.
The basis for supporting a “growth premium” is to demonstrate that your company is growing
Figure 6
Revenue Multiples vs. Growth
Source: The SaaS Capital Index
© 2019 - SaaS Capital
8
What's Your SaaS Company Worth – © 2019– SaaS Capital
faster than its similarly-sized peers. To help you figure that
out, we have included Figure 7: the median growth rates
for SaaS businesses of different sizes based on our 2019
survey of over 1,000 private SaaS companies.
If your business is growing faster than its peers based on
the data in Figure 7, you should be able to garner a higher
multiple. How much higher? You could look to the slope of
the line on the public market graph for guidance, keeping
in mind, however, that as companies scale, growth rates
converge, and each percentage point difference in growth
is a much bigger deal and garners a larger premium for
bigger companies.
More pragmatically, and building off the SaaS Capital
survey data, if your SaaS business generates from zero to $3 million in ARR, it needs to be growing at least 50% to
receive the average private revenue multiple. Growth rates of 60% to 70% would garner multiple premiums of 1.0x to
2.0x, and above 75% could push multiples up by 3.0x to 5.0x if accompanied by a verifiably large addressable market.
For SaaS businesses in the $3 to $10 million range, a growth premium will become relevant above 40% revenue
growth. SaaS businesses in this size range that are growing above 50% could easily see premiums of 1.0x to 3.0x
revenue. Growth of 60% or more with annual revenues above $20 million puts the business in more rarefied company
with growth premiums reaching 6.0x to 10.0x.
For companies with more than $10 million in ARR, growth above 30% to 50% earns a premium. These larger
businesses can achieve outsized premiums of 5.0x to 10.0x if growth rates push north of 50%.
For private companies raising money from VCs, the growth imperative
accounts not only for differences in valuation but also in the likelihood of
success. Slower growing SaaS businesses are difficult to get funded at any
price. These businesses must find a way to demonstrate some source of
organic growth that can be leveraged with additional capital. Only then
will it be worthwhile to invest the time and energy in external fundraising.
On the M&A front, the growth imperative is almost as strong. There are
exceptions when a corporate buyer is looking for a particular need that
can only be filled by a single company; however, typical buying scenarios
generally revolve around growth. “I can’t even take an acquisition
opportunity to my CEO unless they are growing faster than we are,” said
an SVP in a large SaaS business growing at 29%.
0%
10%
20%
30%
40%
50%
60%
< $ 1 M
$1 - 3 M
$3-5 M
$5-10 M
$10-20 M
$20+ M
MEDIAN GROWTH RATEARR
Figure 7
Median Growth Rate by ARR
Source: SaaS Capital Survey 2019
© 2019 - SaaS Capital
“The basis for supporting
a ‘growth premium’
is to demonstrate
that your company is
growing faster than its
similarly-sized peers.”
9
What's Your SaaS Company Worth – © 2019– SaaS Capital
To illustrate each company-specific value driver we have
invented “SlowCo,” a hypothetical business. SlowCo is a
good SaaS company with many positive attributes, but
it is growing more slowly than its peers with $5 million
in recurring revenue and an annual growth rate of 20%.
As Figure 8 shows, all valuations start with the most
current public market multiple from the SaaS Capital
Index, then the private market discount of 2.5x is
applied along with company-specific premiums or
discounts. In our example, a 1.5x to 2.5x multiple
reduction is supported by the data since SlowCo’s
growth rate is approximately half the rate of its peers.
VALUATION DRIVER #2
MARKET SIZE
How big can your business be?
Determining an addressable market size is a key valuation battleground. Your business must
be able to clearly and credibly articulate how it will generate large profits in the future. Keeping
in mind that small businesses in small markets do not ever generate large profits, the size of
your addressable market establishes the upper bounds of your future cash flow and therefore,
ultimately determines an upper limit to your valuation.
For this reason, VCs and buyers dig deeply into the
company’s market size, particularly for more mature
companies. They want to understand your total
addressable market (TAM). In other words, if you sold
all your current products to all the potential buyers
of those products, how big would your company be?
Investors will not pay a $50 million valuation for a SaaS
business in a $100 million market. The upside is too
limited.
In our experience, managers and owners do not do
a good job framing the market-sizing discussion.
This omission is unfortunate because operators are
in a much better position to build the case for their
own business. With a bit of research, a management team can put together a well-organized
addressable market presentation that will generally be accepted by the investor.
9.0x
-2.5x
-2.0x
4.5x
Public Multiple
Private Discount
- Growth -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
Figure 8
Growth Impact on Valuation: SlowCo Example
© 2019 - SaaS Capital
Figure 9
Market Size Impact on Valuation: SlowCo Example
9.0x
-2.5x
-0.5x
6.0x
Public Multiple
Private Discount
- TAM -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
10
What's Your SaaS Company Worth – © 2019– SaaS Capital
Little public data is available that connects the size of an addressable market to a revenue
multiple because TAM itself is subjective. Generally speaking, TAM enters the valuation equation
as a negative factor if the market size is small.
In the specific case of SlowCo, the business is entrenched in a relatively limited vertical market
which lowers their valuation multiple for this factor, as Figure 9 shows. However, their vertical
market orientation will have some accretive benefits in other factors, such as retention and
customer acquisition costs, which are discussed next.
VALUATION DRIVER #3
REVENUE RETENTION
How reliable is the business you are building?
Revenue retention is a significant driver of enterprise value because it touches upon all the key
factors that impact the future cash flows of a SaaS business. High retention increases revenue
growth rate, improves unit economics, increases profitability and even increases the size of the
addressable market. Most importantly, it improves revenue predictability, thereby reducing
perceived risk. Lastly, it is also cumulative, so small changes in churn will have a significant impact
over time.
SaaS Capital has published numerous articles on SaaS company retention rates over the years
and in our white paper No Churn: Keep Customers and Improve Your SaaS Company Valuation, we
numerically demonstrate how a 1% improvement in net retention will increase a SaaS company’s
value by 12% over five years. That paper was written a few years ago, and using 2019 valuation
multiples, a 1% increase in retention should now create a 15% increase in value over five years.
In the context of the valuation framework, however, it is essential to isolate how retention impacts
valuation. Better retention improves a company’s
growth rate and results in higher revenue over time.
These two factors, however, are already incorporated
into a company’s valuation based on its run-rate
revenue and growth premiums. Additional value is
created, however, when a company’s retention rate
is above that of its peers because high-retention
businesses are less risky and have better unit
economics. Buyers and investors will pay a premium for
efficient businesses they perceive as predictably losing
very few customers.
Figure 10
Retention by Annual Contract Value
80%
85%
90%
95%
100%
105%
< $6,000
$6k -
$12k
$12k -
$25k
$25k -
$50k
$50k -
$100k
$100k -
$250k
>$250k
MEDIAN ANNUAL RETENTION PERCENTAGEANNUAL CONTRACT VALUE
Net Revenue Retention
Gross Revenue Retention
Source: SaaS Capital Survey 2019
© 2019 - SaaS Capital
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What's Your SaaS Company Worth – © 2019– SaaS Capital
From our 2019 survey data, the median net retention
rate (including cross-sell, up-sell, and price increases)
for private SaaS businesses is 100%, see Figure 10.
Above that level, a premium is justifiable. How much
of a premium is hard to determine because retention
rates are not consistently reported in public or private
valuation data, and its impact, as we mentioned, is
highly correlated with other value drivers.
All that said, based on the 30 valuation events that
we have been a part of, we estimate the impact to be
significant for companies that deviate meaningfully
from 100% net retention. Less than 85% net retention
will undoubtedly lower a business’ value, and above
105% will certainly increase it.
In the case of SlowCo, retention is a strength as it is
for many vertically focused SaaS companies. It’s Net
Revenue Retention of 107% earns it a 0.7x multiple
upgrade, shown in Figure 11.
VALUATION DRIVER #4
GROSS MARGIN & REVENUE MIX
Given the revenue generated by your business, how much profit can you make?
Gross margin indicates the potential profitability level of the business per dollar
of revenue when it reaches a more mature phase. Gross margin also determines
how much cash a company can reinvest back into sales, marketing, and product
development and, therefore, indicates the capital efficiency of the business. For
these reasons, the less direct costs required to deliver a SaaS revenue stream, the
more valuable that revenue is.
Our private company survey data indicates that the median gross margin
is 74% corresponding to an average mix of license revenue to professional
services of 80%/20%. This is also consistent with the average SaaS Capital
Index gross margin of 73% for public companies. The costs typically included
in the gross margin calculation are: professional service costs, hosting and
related personnel costs, customer support, customer success, and any
Figure 11
Retention Impact on Valuation: SlowCo Example
9.0x
-2.5x
0.7x
7.2x
Public Multiple
Private Discount
- NRR -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
“ The less direct costs
required to deliver a SaaS
revenue stream, the more
valuable that revenue is.”
12
What's Your SaaS Company Worth – © 2019– SaaS Capital
other direct cost associated with delivering the
product. For more information, read our blog post
“What Should Be Included in COGS for my SaaS Business?”
If your SaaS business is generating significantly more of
its revenue from services or has a meaningfully lower
gross margin than a traditional SaaS company (i.e., your
product requires a lot of third party data or services, or
you have unusually high hosting costs), your revenue
valuation multiple will be lower.
It is possible to convert a revenue-based valuation to a
gross margin multiple to quantify the potential impact
on valuation. As discussed above, the average private
revenue multiple is approximately 28% less than the
current SaaS Index multiple of 9.0, and the average
private gross margin is 74% (based on SaaS Capital
research data.) Using those two figures, we can derive
a baseline private company gross margin valuation
multiple of 8.8x. Figure 12 shows how to estimate the
valuation impact of different gross margins. This basic
approach is useful regardless of what gross margin
percentage is assumed to be the base case.
An alternative approach to account for revenue mix
and gross margin variations is to assess the value of
different revenue streams separately. To do this, and
also operate the business effectively, services revenue
and license revenue should be isolated, along with the
direct COGS needed to support each. This approach
is particularly useful for SaaS businesses that can
demonstrate significant gross margin contribution from
their services work.
SlowCo has an efficient software application and
support organization driving an 80% overall gross
margin, which justifies a 0.5x multiple premium, as
Figure 13 shows.
Figure 12
Gross Margin Impact
AVERAGE SAAS CO
Revenue
$10,000,000
Revenue Multiple
6.5x
Company Valuation
$65,000,000
Gross Margin %
74%
Gross Margin $
$7,400,000
Implied Gross Margin Multiple
8.8x
LOW MARGIN SAAS CO
Revenue
$10,000,000
Gross Margin %
60%
Gross Margin $
$6,000,000
Gross Margin Multiple
8.8x
Company Valuation
$52,800,000
Implied Revenue Multiple
5.3x
Figure 13
Gross Margin Impact on Valuation: SlowCo Example
9.0x
-2.5x
0.5x
7.0x
Public Multiple
Private Discount
- GM -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
© 2019 - SaaS Capital
13
What's Your SaaS Company Worth – © 2019– SaaS Capital
VALUATION DRIVER #5
CUSTOMER ACQUISITION
EFFICIENCY & UNIT ECONOMICS
If I put a dollar in my SaaS money-making-machine, how much will I get out?
Both investors and strategic buyers are typically looking to continue growing a SaaS business by deploying more
capital for sales and marketing. How efficiently the business converts that spending into new customers is highly
relevant to both projected future cash flows at maturity, and the amount of capital required to get there. Companies
with high customer acquisition costs (CAC) need more capital to grow, and thereby, diminish overall returns whether
the buyer is a VC, a corporation, or a public stockholder.
There are many ways to measure the CAC ratio, and for this analysis, we will keep it simple:
CAC Ratio = New ARR from new customers ÷ sales and marketing spend to acquire those customers
In English, how much in annual revenue is generated for each dollar invested in sales and marketing?
This ratio does not include gross margins because these costs are accounted for elsewhere in our analysis,
and it does not include a lifetime value (LTV) calculation as that metric is implicitly considered in the retention
and growth section. LTV is also a highly volatile metric. You can read more about this volatility in our blog post
A Warning About SaaS Lifetime Value Calculations.
Our 2019 survey of SaaS companies yielded a median CAC ratio of .78. This means that each dollar of sales and
marketing spend generated 78 cents of annual recurring revenue. This can also be thought of as a monthly payback
period of 15.4 months (12 months ÷ .78).
It should be noted here that this metric is subject to
some interpretation and manipulation based upon
the costs that are included in sales and marketing
spend, what is counted as “new” revenue from “new”
customers, and how long is the inherent time lag in the
sales and marketing spend relative to new revenue.
Therefore, benchmarking this ratio should be done
cautiously and with a fair amount of leeway. From a
valuation perspective, companies that are inefficient at
acquiring new customers and have a CAC ratio below
.6 will be valued less, and those that are efficient and
have a ratio above 1.2 will be valued higher per dollar of
revenue.
Like many vertically oriented SaaS businesses, SlowCo
has an efficient CAC Ratio of 2.0 and earns another 0.3x
multiple premium, depicted in Figure 14.
Figure 14
CAC Impact on Valuation: SlowCo Example
9.0x
-2.5x
0.3x
6.8x
Public Multiple
Private Discount
- CAC -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
14
What's Your SaaS Company Worth – © 2019– SaaS Capital
VALUATION DRIVER #6
PROFITABILITY
In the introduction of this paper, we discussed how bottom-line profitability does not play a
substantial role in the valuation of a SaaS business, but there are a few scenarios in which its impact
is potentially significant.
1. Profitability becomes relevant to valuation when combined with slow growth. Future cash
flows from a business that is both unprofitable and slow-growing are hard for anyone to
quantify. It is very difficult to raise capital for these businesses, and they are generally worth
0.5 to 2.0 times revenue to strategic buyers depending upon retention and product fit.
2. Profitability creates optionality for a seller. In other words, when a business does not need
additional capital to sustain itself, there is less pressure to sell. Current profitability may or
may not factor heavily into the projected future cash flow of the business, but it certainly can
have a real-world psychological impact on the motivations of both buyers and sellers.
3. When capital needed to sustain losses in unprofitable business becomes scarce and
expensive, profitable firms increase in value.
Because bottom-line profitability only impacts valuations in specific scenarios, we do not attempt to
quantify its impact, in this paper, but we certainly recognize its importance in some cases.
Summarizing all the valuation factors for SlowCo on October 1, 2019
yields a multiple of 5.5x and an enterprise value of $27 million, shown in Figure 15.
Figure 15
SlowCo Valuation Summary
-2.0x
-0.5x
0.7x
0.5x
0.3x
9.0x
-2.5x
5.5x
Public Multiple Private Discount
Growth
TAM
NRR
GM
CAC
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
15
What's Your SaaS Company Worth – © 2019– SaaS Capital
THE BALANCE SHEET
When getting into the final stages of valuation, the balance sheet will be
considered, and there will be a myriad of final adjustments. Most of these
adjustments are not specific to SaaS and are made to account for particular sources
or uses of cash separate from ongoing operations of the business. Some examples of
typical adjustments include a large cash balance in the bank account at closing or a sizeable
long-term obligation that is being assumed by the buyer. Also, if accounts payable are unusually
large, or accounts receivable are abnormally low, adjustments are typically made. The idea is that
the buyer will buy a “normal” balance sheet needed to support the current operations and adjust
the price for any unusual balance sheet conditions.
What about deferred revenue?
Deferred revenue is a balance sheet item relatively unique to SaaS, and we believe it deserves
separate consideration.
Buyers will frequently argue that if they make a purchase based on revenue as a proxy for future
cash flows, then deferred revenue represents cash that has already been collected and therefore
it should not be considered in future cash flows and should be deducted from the price.
This approach is wrong for two reasons:
1.
If the business continues to grow, or at a minimum, maintains current revenue levels,
deferred revenue will never be “repaid.” It is part of the normal working capital equation
of the business and it actually is a source of cash if the business grows.
2. To satisfy the deferred revenue “liability,” the company merely needs to provision
the service, not write a check as it would do for a bank loan or most other long-term
liabilities. The cost to keep the servers up and running is a fraction of the amount of
deferred revenue, so the future claim on the company’s cash is much lower than what
is on the balance sheet. If pressed, an appropriate option you might suggest is to make
a price adjustment equal to the deferred revenue balance times the cost of goods sold
percentage.
We will note here, that while the arguments above are strong and valid, in 100% of the
transactions we see, the deferred revenue balance is subtracted from the purchase
price. Hopefully, this practice will change in the future.
16
What's Your SaaS Company Worth – © 2019– SaaS Capital
OTHER VALUATION DRIVERS
The factors listed above might make valuing a SaaS business
seem more like a math exercise than it truly is. In reality, there
is a myriad of other factors that can impact a company’s value,
but they tend to be highly company-specific and are, therefore,
difficult to quantify or benchmark. Some of the other major value
drivers to be aware of are:
1. How competitive is the sale or fundraising process?
As noted in the first sentence of the introduction, real
valuations are set by buyers and sellers, not consultants,
bankers, or white papers.
2.
Is the company a leader in its space? In the SaaS world,
leaders tend to maintain and grow market share and
garner a meaningful valuation premium.
3.
Is the company a good strategic fit for a buyer? Beyond
your SaaS company’s performance, how might it fit in
with a buyer’s existing business? What are the synergies?
Should the buyer pay the seller for those synergies?
4. How strong (experienced) is the management team?
This is particularly important when valuing an earlier-
stage SaaS business when there is less clear financial
data.
5.
Is there a technology advantage, technology debt, or an
existing claim on intellectual property?
All of these factors and others can undoubtedly impact value in a
meaningful way; however, the impact is still generally within the
context of a revenue multiple premium or discount.
“There is a myriad
of company-specific
factors that can impact a
company’s value, but their
value can be difficult to
quantify or benchmark.”
17
What's Your SaaS Company Worth – © 2019– SaaS Capital
SAMPLE VALUATIONS FROM OUR PORTFOLIO
Throughout this paper, we’ve been developing the valuation framework, which begins with our public company
benchmark and then builds in the appropriate valuation premiums and discounts. We demonstrated the value drivers
using the hypothetical “SlowCo,” and below we apply the same analysis to two actual portfolio company sales. Note that
each valuation exercise begins with the public multiple at the time of the equity event.
4.9x
-0.5x
-0.1x
0.6x
0.0x
0.0x
-1.37x
3.5x
Public Multiple Private Discount
Growth
TAM
NRR
GM
CAC
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
Figure 16
Portfolio Company #1
• Public company market multiple at the
time of transaction = 4.9x, a 28% discount
is reflected in the 1.37x private company
discount
• ARR run-rate = $17 million
• Growth rate = 26% (lower than mean)
•
TAM = Currently serving niche market
• Net Revenue Retention Rate = 109% (very
high)
• Gross Margin = 84% (average, at the time)
• CAC Ratio = .9 (average)
• Valuation = 3.5x from a private equity firm
© 2019 - SaaS Capital
Figure 17
Portfolio Company #2
5.1x
5.4x
-0.5x
0.0x
0.3x
0.5x
-1.43x
9.3x
Public Multiple
Private Discount
Growth
TAM
NRR
GM
CAC
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
• Public company market multiple at the
time of transaction = 5.1x, a 28% discount
is reflected in the 1.43x private company
discount
• ARR run-rate = $45 million (large)
• Growth rate = 230% (extremely high)
• TAM = Niche market, but plausible expansion
to a larger market
• Net Retention Rate = 100% (average)
• Gross Margin = 90% (high)
• CAC Ratio = 3.2 (very high)
• Valuation = 9.3x from a private equity firm
18
What's Your SaaS Company Worth – © 2019– SaaS Capital
19
CONCLUSION
SaaS companies, like any other, are worth the present value of their estimated future cash flows as
determined by a willing buyer and willing seller. For SaaS businesses, however, the best proxy of future
cash flows is recurring revenue, not EBITDA, and so they trade based on a multiple of that metric.
Because of their smaller size and lack of liquidity, private SaaS businesses generally trade with a
revenue multiple that is discounted by 28% from current public SaaS companies.
At the publication date of this paper, an average private SaaS business was worth 6.5 times run-rate
revenue. From there, the key drivers of the valuation multiple above or below the average are growth
relative to the size of recurring revenue, addressable market size, revenue retention, gross margins, and
sales efficiency. Deviations from the mean in these metrics can swing the valuation multiple significantly
and cumulatively, with revenue growth rate being the most significant value driver by far.
In understanding the underlying methodology used by buyers and investors in SaaS businesses,
operators and owners can better optimize and negotiate an appropriate valuation. Based on our
experience, it is a myth that buyers and investors want an uneducated seller. Buyers want to work with
a reasonable and educated seller that can quickly and rationally come to a fair range on valuation. From
there, the two parties may not ultimately agree on a price, but at least they will have a productive and
informed conversation.
“Private SaaS businesses
generally trade with a revenue
multiple that is initially
discounted by 28% from current
public SaaS companies.”
What's Your SaaS Company Worth – © 2019– SaaS Capital
20
+1 513-368-4814
+1 303-870-9529
www.saas-capital.com
ABOUT SAAS CAPITAL
SaaS Capital is the leading provider of growth-debt designed explicitly
for B2B SaaS companies. SaaS Capital growth-debt is structured
to provide a significant source of committed funding, deployment
flexibility, and lower overall cost of capital, all while avoiding the loss of
control associated with selling equity. SaaS Capital was the first to offer
lending alternatives to SaaS businesses based on their future recurring
revenue. Since 2007, we have deployed $209.5 million in growth-debt
to deliver better outcomes for our 60+ clients resulting in $753 million in
total enterprise valuation created. SaaS Capital has offices in Cincinnati
and Seattle.
Visit www.saas-capital.com to learn more
info@saas-capital.com
WHAT’S YOUR SAAS
COMPANY WORTH?
This white paper is written for entrepreneurs, angel
investors, and the management teams of SaaS
businesses. The intent of the paper is to describe
the approach used by most professional investors
and strategic buyers to value a SaaS company. By
better understanding the concepts and mechanics
of valuing a SaaS business, management will
be better able to articulate and maximize the
value of their company, and also develop a more
accurate estimate of the likely offers in a sale
process or equity raise, resulting in a narrower
bid-ask starting spread and higher likelihood of
a successful outcome. The framework described
in this paper is designed to be adaptable to the
market environment well into the future.
WHITE PAPER - 2019 v01
www.saas-capital.com
What's Your SaaS Company Worth – © 2019– SaaS Capital
1
INTRODUCTION
Like all businesses, a SaaS company is worth what a buyer and seller agree upon, and is based
on an estimate of the current value of its future cash flows. That simple sentence includes two
essential concepts:
1)
The marketplace determines SaaS company valuations during a process of negotiation
between two parties.
2)
A set of assumptions about the size, timing, and predictability of the future cash flows
generated by the business are the basis for negotiation.
In the following pages, we will try to add insight into both the general valuation parameters of the
marketplace and also the fundamental assumptions about future cash flows of an individual SaaS
business.
The paper consists of seven sections:
1. The Basic Valuation Formula
2. Public Company Valuations
3. Translating Public Valuations to Private Companies
4. Company-Specific Value Drivers
5. The Balance Sheet
6. Other Valuation Drivers
7. Sample Valuations From Our Portfolio
What's Your SaaS Company Worth – © 2019– SaaS Capital
THE BASIC VALUATION FORMULA
For private SaaS businesses, the net present value of future cash flows can be reduced to a
shorthand formula based on a multiple of the company’s annualized revenue.
Annualized Revenue x Multiple = Company Valuation
Anything that affects the projected size, timing, and predictability of future cash flows impacts
the revenue multiple. Those factors include company-specific drivers such as growth rate, gross
margins, retention, etc. and external or macro factors such as economic growth expectations,
fear of war, tax policy, etc.
The company-specific factors drive the projected cash flows, while public company valuation
multiples reflect the implicit macroeconomic discount rate. Said differently, the current public
market valuation multiples incorporate all known macroeconomic uncertainty, and the company-
specific factors adjust it from there. Sometimes the baseline valuation multiple is 9.0 times
revenue; sometimes it is 4.0 times; it just depends on when you are selling. Figure 1 depicts the
median public SaaS valuation multiples since 2008. We will further explore the public market
baseline multiple below in the “Using Public Company Valuations” section.
So why do SaaS companies trade on revenue, while all
other businesses trade on EBITDA or net income, both
of which are closer approximations of cash flow?
Net income takes a long time to materialize for growing
SaaS businesses, even if underlying unit economics are
robust. Sales and marketing expenses are recognized
upfront, while revenue persists over many years. This
“lag” makes new customers unprofitable in the short
term, even though they clearly will be profitable over
their lifetime. If a SaaS business is growing quickly,
there are a lot of new (temporarily unprofitable)
customers making net income negative. This is true
even though the business could stop growing and it
would immediately throw off cash. For this reason,
revenue is a better indicator of long-term cash flow
for a SaaS business than net income or EBITDA. This
approach to valuation will likely change as the sector
matures, but even for the largest SaaS businesses
today, there is little relationship between overall
profitability and valuation.
Source: The SaaS Capital Index
Figure 1
Median Public SaaS Company Valuation Multiple
9.0x
.0x
2.0x
4.0x
6.0x
8.0x
10.0x
12.0x
Ja
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8
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n-0
9
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© 2019 - SaaS Capital
2
What's Your SaaS Company Worth – © 2019– SaaS Capital
How should revenue be measured?
Before moving on to the different drivers of the valuation multiple, let’s discuss the first part of
the equation – revenue. When a buyer or investor evaluates a business, they will look closely at
the different revenue streams, and when possible, value them differently. High gross margin
recurring license fees generate more future cash-flow and are more highly valued. One-time
services fees like implementation are valued less, with recurring services falling somewhere in the
middle. Refer to the Gross Margin & Revenue Mix section below for more detail.
The generally available data on public and private valuation multiples include companies with
varying percentages of services revenue, which is not necessarily disclosed separately. We do
know, however, from our survey of over 1,000 SaaS businesses, and available public data, that the
average mix of license fees to services revenue is 80% to 20%, respectively. So, if your business
has a similar 80/20 revenue mix, the revenue multiple developed here applies to your entire
revenue stream, not just your license revenue or Annual Recurring Revenue (ARR). However, if
your services mix is significantly higher, or you have hardware or other types of revenue, you will
need to calculate separate adjustments downward for individual revenue streams.
It’s also important to note that when looking at most public company data, valuations are typically
reported as a multiple of either last year’s revenue, next year’s revenue, or the trailing 12
months of revenue. All of these revenue figures add unnecessary noise to determining
a precise measure of current revenue, which is the company’s annualized run-rate
revenue. The SaaS Capital Index, referenced throughout this paper, calculates
valuation multiples based on run-rate revenue to make a comparison to
your business more direct. If you are using another index, it will be
important to keep this nuance in mind and adjust accordingly.
Having outlined the basic approach to valuation, let’s
now take a more in-depth look at public SaaS
company valuations.
“Anything that will impact
the size, timing, and
predictability of future cash
flows will be incorporated
into the revenue multiple.”
3
What's Your SaaS Company Worth – © 2019– SaaS Capital
0%
100%
200%
300%
400%
500%
600%
700%
Ja
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Ju
l-1
9
SaaS Capital Index
S&P 500
NASDAQ Composite
Figure 2
SaaS Capital Index vs. S&P 500 & NASDAQ
PUBLIC COMPANY VALUATIONS
Public market valuations reflect real-time information and have high data integrity because
they include many different companies and are based on audited financial statements. Public
valuation data is the primary starting point for valuation analysis by both buyers and sellers.
There are several different public SaaS indices available, including one developed by SaaS Capital
– aptly called The SaaS Capital Index. The companies in our index were selected to represent
pure B2B SaaS companies, and specifically excludes companies like LinkedIn (when public),
PayPal, Carbonite, and Dropbox. The index also excludes legacy and conglomerate software
vendors such as Microsoft and Oracle, who have a mix of perpetual and SaaS revenue.
Because public valuation data changes constantly,
any valuation analysis should begin by downloading
the most current SaaS Capital Index dataset
available to download from the SaaS Capital website.
Before we discuss the mechanics of using the public
valuations, let’s pause here to understand a bit about
how the public company valuations have behaved
over time. Figure 2 compares the SaaS Capital Index
to the S&P 500 and NASDAQ composite index since
2013.
First, it’s impossible not to notice how SaaS company
valuations have outperformed the broader market
in the last three and a half years. Broadly speaking,
since early 2017, the valuations of SaaS businesses
have increased three times more than the broader
stock market.
The increase in SaaS valuations over the broader market during this period primarily resulted
from SaaS companies growing revenue (their key valuation metric) faster than the rest of the
companies grew net income (their key valuation metric). Also contributing, but to a somewhat
lesser extent, was the fact the average SaaS company revenue valuation multiple increased more
over this period than the price-to-earnings multiple increased for the rest of the market.
The other thing that’s easy to see is the SaaS index is bumpier than the other indices indicating
its higher volatility. The higher volatility is explained by the fact that the index is comprised of
fewer companies, and SaaS is still an emerging space comprised of smaller market capitalization
companies with higher stock price volatility.
© 2019 - SaaS Capital
4
What's Your SaaS Company Worth – © 2019– SaaS Capital
We are not public market investors, however, there have been two recent,
apparent over-corrections in SaaS valuations in early 2016, and late in 2018
when SaaS valuations fell much more aggressively than the broader market.
In each case, the underlying companies’ performance was relatively consistent
and it was mostly the market expectations that changed. In both occurrences,
company values rebounded and eventually out-performed the broader market.
The upshot of this pattern is that if you are looking to sell your business during
a period of “correction” in SaaS values, choosing not to sell and waiting for it to
pass has historically been a successful strategy. It would also be fair to note that
as of the writing of this report, the median public SaaS revenue multiple of 9.0 is
substantially above historical norms. The timing of an equity raise or company
sale is difficult to manage, and future public SaaS valuations are difficult to
predict, however, an awareness of historical public SaaS valuation trends can provide meaningful
guidance for fundraising and sale decisions. Therefore, selling a SaaS business in the macro
environment of the fall of 2019, for example, would generally be constructive.
Figure 3 shows that the median public B2B SaaS business has $562 million in revenue, is growing
at 22.7% year-over-year, has gross margins of 73%, and is worth about 9.0 times run-rate revenue
as of October 1, 2019. This baseline now becomes the starting point of our analysis and we
will build from here. The great thing about public market data is you can easily find it, and it’s
updated constantly. The drawback of public valuation data, however, is that it does not represent
the realities of the typical private SaaS company, which is much smaller.
Revised 10/1/2019
Market Cap
($ Billions)
EV/Run Rate
Revenue
Run Rate
Revenue
($ Millions)
Growth
Rate
Gross
Margin
Median
$ 5.13
9.0x
$562
22.7%
73%
Mean
$ 13. 54
10.1x
$1,384
24.6%
73%
Low
$ 0.44
1.8x
$ 167
- 5.5%
45%
High
$134.35
27.9x
$15,988
85.1%
90%
Figure 3
SaaS Capital Index: Company Metrics
Source: SaaS Capital Index
To value your SaaS business, start by downloading the most
current SaaS Capital Index dataset from our website.
“Awareness of historical
public SaaS valuation
trends can provide
meaningful guidance
for fundraising and
sale decisions.”
5
What's Your SaaS Company Worth – © 2019– SaaS Capital
TRANSLATING PUBLIC VALUATIONS TO PRIVATE COMPANIES
The valuation drivers in private markets are the same as in the public markets, although the private company
valuations tend to be lower because the companies are smaller (riskier) and shareholders do not have liquidity. That
is, they can’t buy or sell their shares in the company whenever they want.
Unfortunately, valuations in private transactions are rarely disclosed and valuation multiples alone, without knowing
the growth rate of the underlying businesses, are not particularly useful. Fortunately, SaaS Capital has been directly
involved in 30 SaaS companies that have either raised equity or sold their business over the last five years, and we
know the growth rates and valuation multiples for all
these companies.
Taking the private company valuation multiples from
our portfolio and overlaying them on the public
company multiples over the same period and across
companies with similar growth rates yields the graph
shown in Figure 4.
The Valuation Multiple Spread
If you look closely at Figure 4, you will notice that the
difference between the public and private revenue
multiples is about 2.0x across the spectrum of growth
rates. Please note, this chart is only intended to
demonstrate the discount applied to private versus
public companies and should not be used for any
current valuation calculations because it relies on
data some of which is five years old. The 2.0 times
revenue discount represents a 28% discount to the
average public valuation multiple over that period.
So, mechanically, start your valuation analysis with
the most current median public valuation multiple in
the SaaS Capital Index, and then apply the private
company discount of 28%.1 Therefore, as of our
publication date in October 2019, the current baseline
private company revenue multiple is 6.5x, depicted in
Figure 5.
1 While SaaS Capital will update the private company discount factor on a
regular basis, 28% has shown to be a relatively stable value over time.
.0x
2.0x
4.0x
6.0x
8.0x
10.0x
12.0x
14.0x
16.0x
-20%
0%
20%
40%
60%
80%
100%
120%
VALUATION MULTIPLE OF TTM REVENUEGROWTH RATE
Private
Public
Linear (Private)
Linear (Public)
Figure 4
Private vs. Public Multiples
© 2019 - SaaS Capital
9.0x
-2.5
6.5x
Public Multiple Oct-19
- Private Discount -
Private Multiple Oct-19
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
-28%
Figure 5
Private Company Discount Factor
© 2019 - SaaS Capital
6
What's Your SaaS Company Worth – © 2019– SaaS Capital
COMPANY-SPECIFIC VALUE DRIVERS
Having established both the basic formula of SaaS valuations as a function of revenue and
provided a way to calculate a baseline revenue multiple at any point based on public company
valuations, we will now explore the company-specific factors that will cause a multiple to be
higher or lower.
To maximize company value, individual company characteristics need to be carefully evaluated,
isolated, and considered in the overall context of the broader market. Drawing upon our
experience selling and financing hundreds of companies and seven years of proprietary survey
data from 1,000 private SaaS companies, we have assembled the following list of value drivers
every operator should consider as they prepare for an equity raise or sale of their company.
Listed in order of importance, the company-specific drivers of financial valuation are:
1.
Growth & Scale of Revenue
2.
Market Size
3.
Revenue Retention
4.
Gross Margin & Revenue Mix
5.
Customer Acquisition Efficiency & Unit Economics
6.
Profitability
“To maximize company value,
individual company characteristics
need to be carefully evaluated,
isolated, and considered in the
overall context of the
broader market.”
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What's Your SaaS Company Worth – © 2019– SaaS Capital
VALUATION DRIVER #1
GROWTH & SCALE OF REVENUE
How much revenue is there now? How long will it take to get bigger?
How likely is it to happen?
A company’s historical growth rate is the single biggest driver of the valuation multiple. It has
dwarfed all other factors for a long time. The reason high historical growth is so valuable is that
it is predictive of both the timing (sooner), and size (larger), of future profits. And because of the
recurring revenue model, high historical growth rates make projected future profits more likely
(lower risk).
The relationship between growth and valuation multiples was shown in Figure 4 and it applies
equally to public and private businesses. The correlation between growth and valuation is not
perfect, but it is solid and outweighs all other metrics.
Faster-growing businesses get higher multiples, while
the slower-growing businesses get lower multiples.
Growth rate alone, however, does not tell the full story.
It is much easier and more common for a $5 million
business to grow at 40% than it is for a $500 million
revenue business. This relationship is simply due to
math (based on the size of the denominator) and the
standard growth curve, which slows over time for all
businesses. (Refer to SaaS Capital Research Brief 6,
The Daunting Math of Growth, for more details.)
The size of the bubbles in Figure 6 indicates the relative
size of revenue for each company. You’ll see in the chart
that for a given growth rate, the larger bubbles (larger
companies) generally receive a higher valuation multiple
than a smaller company growing at the same rate.
Larger companies are less risky, and if they are still growing nicely at scale, by definition, they
have a significant addressable market.
Byron Deeter at Bessemer Ventures likes to tell the story that many early-stage SaaS companies
point out to him that they are growing much faster than their public competitors and, therefore,
should get a premium valuation. The more relevant comparison, however, is to compare the
growth rates of the companies when they were both the same size. Many public SaaS businesses
now growing at 30% were growing at 200% when they were $5 million or $10 million in revenue.
The basis for supporting a “growth premium” is to demonstrate that your company is growing
Figure 6
Revenue Multiples vs. Growth
Source: The SaaS Capital Index
© 2019 - SaaS Capital
8
What's Your SaaS Company Worth – © 2019– SaaS Capital
faster than its similarly-sized peers. To help you figure that
out, we have included Figure 7: the median growth rates
for SaaS businesses of different sizes based on our 2019
survey of over 1,000 private SaaS companies.
If your business is growing faster than its peers based on
the data in Figure 7, you should be able to garner a higher
multiple. How much higher? You could look to the slope of
the line on the public market graph for guidance, keeping
in mind, however, that as companies scale, growth rates
converge, and each percentage point difference in growth
is a much bigger deal and garners a larger premium for
bigger companies.
More pragmatically, and building off the SaaS Capital
survey data, if your SaaS business generates from zero to $3 million in ARR, it needs to be growing at least 50% to
receive the average private revenue multiple. Growth rates of 60% to 70% would garner multiple premiums of 1.0x to
2.0x, and above 75% could push multiples up by 3.0x to 5.0x if accompanied by a verifiably large addressable market.
For SaaS businesses in the $3 to $10 million range, a growth premium will become relevant above 40% revenue
growth. SaaS businesses in this size range that are growing above 50% could easily see premiums of 1.0x to 3.0x
revenue. Growth of 60% or more with annual revenues above $20 million puts the business in more rarefied company
with growth premiums reaching 6.0x to 10.0x.
For companies with more than $10 million in ARR, growth above 30% to 50% earns a premium. These larger
businesses can achieve outsized premiums of 5.0x to 10.0x if growth rates push north of 50%.
For private companies raising money from VCs, the growth imperative
accounts not only for differences in valuation but also in the likelihood of
success. Slower growing SaaS businesses are difficult to get funded at any
price. These businesses must find a way to demonstrate some source of
organic growth that can be leveraged with additional capital. Only then
will it be worthwhile to invest the time and energy in external fundraising.
On the M&A front, the growth imperative is almost as strong. There are
exceptions when a corporate buyer is looking for a particular need that
can only be filled by a single company; however, typical buying scenarios
generally revolve around growth. “I can’t even take an acquisition
opportunity to my CEO unless they are growing faster than we are,” said
an SVP in a large SaaS business growing at 29%.
0%
10%
20%
30%
40%
50%
60%
< $ 1 M
$1 - 3 M
$3-5 M
$5-10 M
$10-20 M
$20+ M
MEDIAN GROWTH RATEARR
Figure 7
Median Growth Rate by ARR
Source: SaaS Capital Survey 2019
© 2019 - SaaS Capital
“The basis for supporting
a ‘growth premium’
is to demonstrate
that your company is
growing faster than its
similarly-sized peers.”
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What's Your SaaS Company Worth – © 2019– SaaS Capital
To illustrate each company-specific value driver we have
invented “SlowCo,” a hypothetical business. SlowCo is a
good SaaS company with many positive attributes, but
it is growing more slowly than its peers with $5 million
in recurring revenue and an annual growth rate of 20%.
As Figure 8 shows, all valuations start with the most
current public market multiple from the SaaS Capital
Index, then the private market discount of 2.5x is
applied along with company-specific premiums or
discounts. In our example, a 1.5x to 2.5x multiple
reduction is supported by the data since SlowCo’s
growth rate is approximately half the rate of its peers.
VALUATION DRIVER #2
MARKET SIZE
How big can your business be?
Determining an addressable market size is a key valuation battleground. Your business must
be able to clearly and credibly articulate how it will generate large profits in the future. Keeping
in mind that small businesses in small markets do not ever generate large profits, the size of
your addressable market establishes the upper bounds of your future cash flow and therefore,
ultimately determines an upper limit to your valuation.
For this reason, VCs and buyers dig deeply into the
company’s market size, particularly for more mature
companies. They want to understand your total
addressable market (TAM). In other words, if you sold
all your current products to all the potential buyers
of those products, how big would your company be?
Investors will not pay a $50 million valuation for a SaaS
business in a $100 million market. The upside is too
limited.
In our experience, managers and owners do not do
a good job framing the market-sizing discussion.
This omission is unfortunate because operators are
in a much better position to build the case for their
own business. With a bit of research, a management team can put together a well-organized
addressable market presentation that will generally be accepted by the investor.
9.0x
-2.5x
-2.0x
4.5x
Public Multiple
Private Discount
- Growth -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
Figure 8
Growth Impact on Valuation: SlowCo Example
© 2019 - SaaS Capital
Figure 9
Market Size Impact on Valuation: SlowCo Example
9.0x
-2.5x
-0.5x
6.0x
Public Multiple
Private Discount
- TAM -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
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What's Your SaaS Company Worth – © 2019– SaaS Capital
Little public data is available that connects the size of an addressable market to a revenue
multiple because TAM itself is subjective. Generally speaking, TAM enters the valuation equation
as a negative factor if the market size is small.
In the specific case of SlowCo, the business is entrenched in a relatively limited vertical market
which lowers their valuation multiple for this factor, as Figure 9 shows. However, their vertical
market orientation will have some accretive benefits in other factors, such as retention and
customer acquisition costs, which are discussed next.
VALUATION DRIVER #3
REVENUE RETENTION
How reliable is the business you are building?
Revenue retention is a significant driver of enterprise value because it touches upon all the key
factors that impact the future cash flows of a SaaS business. High retention increases revenue
growth rate, improves unit economics, increases profitability and even increases the size of the
addressable market. Most importantly, it improves revenue predictability, thereby reducing
perceived risk. Lastly, it is also cumulative, so small changes in churn will have a significant impact
over time.
SaaS Capital has published numerous articles on SaaS company retention rates over the years
and in our white paper No Churn: Keep Customers and Improve Your SaaS Company Valuation, we
numerically demonstrate how a 1% improvement in net retention will increase a SaaS company’s
value by 12% over five years. That paper was written a few years ago, and using 2019 valuation
multiples, a 1% increase in retention should now create a 15% increase in value over five years.
In the context of the valuation framework, however, it is essential to isolate how retention impacts
valuation. Better retention improves a company’s
growth rate and results in higher revenue over time.
These two factors, however, are already incorporated
into a company’s valuation based on its run-rate
revenue and growth premiums. Additional value is
created, however, when a company’s retention rate
is above that of its peers because high-retention
businesses are less risky and have better unit
economics. Buyers and investors will pay a premium for
efficient businesses they perceive as predictably losing
very few customers.
Figure 10
Retention by Annual Contract Value
80%
85%
90%
95%
100%
105%
< $6,000
$6k -
$12k
$12k -
$25k
$25k -
$50k
$50k -
$100k
$100k -
$250k
>$250k
MEDIAN ANNUAL RETENTION PERCENTAGEANNUAL CONTRACT VALUE
Net Revenue Retention
Gross Revenue Retention
Source: SaaS Capital Survey 2019
© 2019 - SaaS Capital
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What's Your SaaS Company Worth – © 2019– SaaS Capital
From our 2019 survey data, the median net retention
rate (including cross-sell, up-sell, and price increases)
for private SaaS businesses is 100%, see Figure 10.
Above that level, a premium is justifiable. How much
of a premium is hard to determine because retention
rates are not consistently reported in public or private
valuation data, and its impact, as we mentioned, is
highly correlated with other value drivers.
All that said, based on the 30 valuation events that
we have been a part of, we estimate the impact to be
significant for companies that deviate meaningfully
from 100% net retention. Less than 85% net retention
will undoubtedly lower a business’ value, and above
105% will certainly increase it.
In the case of SlowCo, retention is a strength as it is
for many vertically focused SaaS companies. It’s Net
Revenue Retention of 107% earns it a 0.7x multiple
upgrade, shown in Figure 11.
VALUATION DRIVER #4
GROSS MARGIN & REVENUE MIX
Given the revenue generated by your business, how much profit can you make?
Gross margin indicates the potential profitability level of the business per dollar
of revenue when it reaches a more mature phase. Gross margin also determines
how much cash a company can reinvest back into sales, marketing, and product
development and, therefore, indicates the capital efficiency of the business. For
these reasons, the less direct costs required to deliver a SaaS revenue stream, the
more valuable that revenue is.
Our private company survey data indicates that the median gross margin
is 74% corresponding to an average mix of license revenue to professional
services of 80%/20%. This is also consistent with the average SaaS Capital
Index gross margin of 73% for public companies. The costs typically included
in the gross margin calculation are: professional service costs, hosting and
related personnel costs, customer support, customer success, and any
Figure 11
Retention Impact on Valuation: SlowCo Example
9.0x
-2.5x
0.7x
7.2x
Public Multiple
Private Discount
- NRR -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
“ The less direct costs
required to deliver a SaaS
revenue stream, the more
valuable that revenue is.”
12
What's Your SaaS Company Worth – © 2019– SaaS Capital
other direct cost associated with delivering the
product. For more information, read our blog post
“What Should Be Included in COGS for my SaaS Business?”
If your SaaS business is generating significantly more of
its revenue from services or has a meaningfully lower
gross margin than a traditional SaaS company (i.e., your
product requires a lot of third party data or services, or
you have unusually high hosting costs), your revenue
valuation multiple will be lower.
It is possible to convert a revenue-based valuation to a
gross margin multiple to quantify the potential impact
on valuation. As discussed above, the average private
revenue multiple is approximately 28% less than the
current SaaS Index multiple of 9.0, and the average
private gross margin is 74% (based on SaaS Capital
research data.) Using those two figures, we can derive
a baseline private company gross margin valuation
multiple of 8.8x. Figure 12 shows how to estimate the
valuation impact of different gross margins. This basic
approach is useful regardless of what gross margin
percentage is assumed to be the base case.
An alternative approach to account for revenue mix
and gross margin variations is to assess the value of
different revenue streams separately. To do this, and
also operate the business effectively, services revenue
and license revenue should be isolated, along with the
direct COGS needed to support each. This approach
is particularly useful for SaaS businesses that can
demonstrate significant gross margin contribution from
their services work.
SlowCo has an efficient software application and
support organization driving an 80% overall gross
margin, which justifies a 0.5x multiple premium, as
Figure 13 shows.
Figure 12
Gross Margin Impact
AVERAGE SAAS CO
Revenue
$10,000,000
Revenue Multiple
6.5x
Company Valuation
$65,000,000
Gross Margin %
74%
Gross Margin $
$7,400,000
Implied Gross Margin Multiple
8.8x
LOW MARGIN SAAS CO
Revenue
$10,000,000
Gross Margin %
60%
Gross Margin $
$6,000,000
Gross Margin Multiple
8.8x
Company Valuation
$52,800,000
Implied Revenue Multiple
5.3x
Figure 13
Gross Margin Impact on Valuation: SlowCo Example
9.0x
-2.5x
0.5x
7.0x
Public Multiple
Private Discount
- GM -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
© 2019 - SaaS Capital
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What's Your SaaS Company Worth – © 2019– SaaS Capital
VALUATION DRIVER #5
CUSTOMER ACQUISITION
EFFICIENCY & UNIT ECONOMICS
If I put a dollar in my SaaS money-making-machine, how much will I get out?
Both investors and strategic buyers are typically looking to continue growing a SaaS business by deploying more
capital for sales and marketing. How efficiently the business converts that spending into new customers is highly
relevant to both projected future cash flows at maturity, and the amount of capital required to get there. Companies
with high customer acquisition costs (CAC) need more capital to grow, and thereby, diminish overall returns whether
the buyer is a VC, a corporation, or a public stockholder.
There are many ways to measure the CAC ratio, and for this analysis, we will keep it simple:
CAC Ratio = New ARR from new customers ÷ sales and marketing spend to acquire those customers
In English, how much in annual revenue is generated for each dollar invested in sales and marketing?
This ratio does not include gross margins because these costs are accounted for elsewhere in our analysis,
and it does not include a lifetime value (LTV) calculation as that metric is implicitly considered in the retention
and growth section. LTV is also a highly volatile metric. You can read more about this volatility in our blog post
A Warning About SaaS Lifetime Value Calculations.
Our 2019 survey of SaaS companies yielded a median CAC ratio of .78. This means that each dollar of sales and
marketing spend generated 78 cents of annual recurring revenue. This can also be thought of as a monthly payback
period of 15.4 months (12 months ÷ .78).
It should be noted here that this metric is subject to
some interpretation and manipulation based upon
the costs that are included in sales and marketing
spend, what is counted as “new” revenue from “new”
customers, and how long is the inherent time lag in the
sales and marketing spend relative to new revenue.
Therefore, benchmarking this ratio should be done
cautiously and with a fair amount of leeway. From a
valuation perspective, companies that are inefficient at
acquiring new customers and have a CAC ratio below
.6 will be valued less, and those that are efficient and
have a ratio above 1.2 will be valued higher per dollar of
revenue.
Like many vertically oriented SaaS businesses, SlowCo
has an efficient CAC Ratio of 2.0 and earns another 0.3x
multiple premium, depicted in Figure 14.
Figure 14
CAC Impact on Valuation: SlowCo Example
9.0x
-2.5x
0.3x
6.8x
Public Multiple
Private Discount
- CAC -
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
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What's Your SaaS Company Worth – © 2019– SaaS Capital
VALUATION DRIVER #6
PROFITABILITY
In the introduction of this paper, we discussed how bottom-line profitability does not play a
substantial role in the valuation of a SaaS business, but there are a few scenarios in which its impact
is potentially significant.
1. Profitability becomes relevant to valuation when combined with slow growth. Future cash
flows from a business that is both unprofitable and slow-growing are hard for anyone to
quantify. It is very difficult to raise capital for these businesses, and they are generally worth
0.5 to 2.0 times revenue to strategic buyers depending upon retention and product fit.
2. Profitability creates optionality for a seller. In other words, when a business does not need
additional capital to sustain itself, there is less pressure to sell. Current profitability may or
may not factor heavily into the projected future cash flow of the business, but it certainly can
have a real-world psychological impact on the motivations of both buyers and sellers.
3. When capital needed to sustain losses in unprofitable business becomes scarce and
expensive, profitable firms increase in value.
Because bottom-line profitability only impacts valuations in specific scenarios, we do not attempt to
quantify its impact, in this paper, but we certainly recognize its importance in some cases.
Summarizing all the valuation factors for SlowCo on October 1, 2019
yields a multiple of 5.5x and an enterprise value of $27 million, shown in Figure 15.
Figure 15
SlowCo Valuation Summary
-2.0x
-0.5x
0.7x
0.5x
0.3x
9.0x
-2.5x
5.5x
Public Multiple Private Discount
Growth
TAM
NRR
GM
CAC
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
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What's Your SaaS Company Worth – © 2019– SaaS Capital
THE BALANCE SHEET
When getting into the final stages of valuation, the balance sheet will be
considered, and there will be a myriad of final adjustments. Most of these
adjustments are not specific to SaaS and are made to account for particular sources
or uses of cash separate from ongoing operations of the business. Some examples of
typical adjustments include a large cash balance in the bank account at closing or a sizeable
long-term obligation that is being assumed by the buyer. Also, if accounts payable are unusually
large, or accounts receivable are abnormally low, adjustments are typically made. The idea is that
the buyer will buy a “normal” balance sheet needed to support the current operations and adjust
the price for any unusual balance sheet conditions.
What about deferred revenue?
Deferred revenue is a balance sheet item relatively unique to SaaS, and we believe it deserves
separate consideration.
Buyers will frequently argue that if they make a purchase based on revenue as a proxy for future
cash flows, then deferred revenue represents cash that has already been collected and therefore
it should not be considered in future cash flows and should be deducted from the price.
This approach is wrong for two reasons:
1.
If the business continues to grow, or at a minimum, maintains current revenue levels,
deferred revenue will never be “repaid.” It is part of the normal working capital equation
of the business and it actually is a source of cash if the business grows.
2. To satisfy the deferred revenue “liability,” the company merely needs to provision
the service, not write a check as it would do for a bank loan or most other long-term
liabilities. The cost to keep the servers up and running is a fraction of the amount of
deferred revenue, so the future claim on the company’s cash is much lower than what
is on the balance sheet. If pressed, an appropriate option you might suggest is to make
a price adjustment equal to the deferred revenue balance times the cost of goods sold
percentage.
We will note here, that while the arguments above are strong and valid, in 100% of the
transactions we see, the deferred revenue balance is subtracted from the purchase
price. Hopefully, this practice will change in the future.
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What's Your SaaS Company Worth – © 2019– SaaS Capital
OTHER VALUATION DRIVERS
The factors listed above might make valuing a SaaS business
seem more like a math exercise than it truly is. In reality, there
is a myriad of other factors that can impact a company’s value,
but they tend to be highly company-specific and are, therefore,
difficult to quantify or benchmark. Some of the other major value
drivers to be aware of are:
1. How competitive is the sale or fundraising process?
As noted in the first sentence of the introduction, real
valuations are set by buyers and sellers, not consultants,
bankers, or white papers.
2.
Is the company a leader in its space? In the SaaS world,
leaders tend to maintain and grow market share and
garner a meaningful valuation premium.
3.
Is the company a good strategic fit for a buyer? Beyond
your SaaS company’s performance, how might it fit in
with a buyer’s existing business? What are the synergies?
Should the buyer pay the seller for those synergies?
4. How strong (experienced) is the management team?
This is particularly important when valuing an earlier-
stage SaaS business when there is less clear financial
data.
5.
Is there a technology advantage, technology debt, or an
existing claim on intellectual property?
All of these factors and others can undoubtedly impact value in a
meaningful way; however, the impact is still generally within the
context of a revenue multiple premium or discount.
“There is a myriad
of company-specific
factors that can impact a
company’s value, but their
value can be difficult to
quantify or benchmark.”
17
What's Your SaaS Company Worth – © 2019– SaaS Capital
SAMPLE VALUATIONS FROM OUR PORTFOLIO
Throughout this paper, we’ve been developing the valuation framework, which begins with our public company
benchmark and then builds in the appropriate valuation premiums and discounts. We demonstrated the value drivers
using the hypothetical “SlowCo,” and below we apply the same analysis to two actual portfolio company sales. Note that
each valuation exercise begins with the public multiple at the time of the equity event.
4.9x
-0.5x
-0.1x
0.6x
0.0x
0.0x
-1.37x
3.5x
Public Multiple Private Discount
Growth
TAM
NRR
GM
CAC
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
Figure 16
Portfolio Company #1
• Public company market multiple at the
time of transaction = 4.9x, a 28% discount
is reflected in the 1.37x private company
discount
• ARR run-rate = $17 million
• Growth rate = 26% (lower than mean)
•
TAM = Currently serving niche market
• Net Revenue Retention Rate = 109% (very
high)
• Gross Margin = 84% (average, at the time)
• CAC Ratio = .9 (average)
• Valuation = 3.5x from a private equity firm
© 2019 - SaaS Capital
Figure 17
Portfolio Company #2
5.1x
5.4x
-0.5x
0.0x
0.3x
0.5x
-1.43x
9.3x
Public Multiple
Private Discount
Growth
TAM
NRR
GM
CAC
Valuation
0.0x
1.0x
2.0x
3.0x
4.0x
5.0x
6.0x
7.0x
8.0x
9.0x
10.0x
© 2019 - SaaS Capital
• Public company market multiple at the
time of transaction = 5.1x, a 28% discount
is reflected in the 1.43x private company
discount
• ARR run-rate = $45 million (large)
• Growth rate = 230% (extremely high)
• TAM = Niche market, but plausible expansion
to a larger market
• Net Retention Rate = 100% (average)
• Gross Margin = 90% (high)
• CAC Ratio = 3.2 (very high)
• Valuation = 9.3x from a private equity firm
18
What's Your SaaS Company Worth – © 2019– SaaS Capital
19
CONCLUSION
SaaS companies, like any other, are worth the present value of their estimated future cash flows as
determined by a willing buyer and willing seller. For SaaS businesses, however, the best proxy of future
cash flows is recurring revenue, not EBITDA, and so they trade based on a multiple of that metric.
Because of their smaller size and lack of liquidity, private SaaS businesses generally trade with a
revenue multiple that is discounted by 28% from current public SaaS companies.
At the publication date of this paper, an average private SaaS business was worth 6.5 times run-rate
revenue. From there, the key drivers of the valuation multiple above or below the average are growth
relative to the size of recurring revenue, addressable market size, revenue retention, gross margins, and
sales efficiency. Deviations from the mean in these metrics can swing the valuation multiple significantly
and cumulatively, with revenue growth rate being the most significant value driver by far.
In understanding the underlying methodology used by buyers and investors in SaaS businesses,
operators and owners can better optimize and negotiate an appropriate valuation. Based on our
experience, it is a myth that buyers and investors want an uneducated seller. Buyers want to work with
a reasonable and educated seller that can quickly and rationally come to a fair range on valuation. From
there, the two parties may not ultimately agree on a price, but at least they will have a productive and
informed conversation.
“Private SaaS businesses
generally trade with a revenue
multiple that is initially
discounted by 28% from current
public SaaS companies.”
What's Your SaaS Company Worth – © 2019– SaaS Capital
20
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